A Business Analysis of Ryanair - Case Study Example

A Business Analysis of Ryanair Submitted by: Submitted In Partial Fulfillment Of the Requirements in [Subject] [Date] Introduction Ryanair, an airline company well known for its ‘lowest fares and no frills’ business strategy offers an interesting subject for study. The company, from operating only 6 lines, has grown by leaps and bounds due to the ‘market busting’ strategies formulated and implemented by Michael O’Leary, the company’s CEO. In 2008, the company was named as the top air travel provider with 50.9 million passengers using its services. Even during this time of economic crisis, the company is still posting millions of profits while other air carriers struggle to have sufficient operating funds. (Ryanair Online, 2010c) In this paper, a business analysis concerning Ryanair is conducted. First, the company is analyzed using the SWOT (Strengths, Weaknesses, Opportunities and Threats) analysis. Second, the business environment where Ryanair operates is subjected to the PEST (Political, Economic, Sociocultural and Technological) analysis. This is then followed by a performance comparison in relation to its competitors using Porter’s Five Forces. SWOT Analysis Strengths Despite the economic slump and the sluggish recovery of economies in Europe, Ryanair has continued to grow traffic by gaining substantial market share from BA (British Airlines), Lufthansa and Air France. In the four months of the 1st half of fiscal year 2010, Ryanair had already reached 36.4 million passengers which was a 15% significant increase from the first five months of fiscal year 2009. The load factor, which shows the probability of continued increase, has been found to be stable at 85%. Conservative estimates by Ryanair executives and industry analysts indicate that the number of passengers for 2010 can be as much as 66 million (CAPA, 2010a). The main reason for this growth is that as people have lesser disposable income, Ryanair’s fares become a wise choice for the thrifty customer. Figure 1 provides historical data on the total number of passengers served per year from 2006 to 2010: Figure 1: Passenger Number and Load Factor (CAPA, 2010a) Ryanair’s strength also lies in its cost discipline attitude that enabled it to post industry leading profit margins in the 1st Quarter of 2010 with 20% and expected to grow reach 30% points by the 2nd Quarter while other competitors are posting negative profit margins. Despite suffering from a 2.0% Euro revenue reduction in the 1st half of 2010 compared to 2009 as a result of declining average fares, Ryanair managed to offset this and post positive net profit margins by a 17% reduction in operating expenses. Critics argue that this reduction was primarily due to a 42% reduction in fuel costs. Fuel constitutes 35% total operating expense. Nonetheless, the company had also achieved significant cost savings by reducing airport and handling costs at individual airports by implementing web check-in initiatives. This initiative alone was estimated to cut costs by 50 million Euros each year. Company-wide pay freeze and an increase in the number of staff receiving lower than average pay rates have also contributed to the reduction in potential operating expense (Binggeli & Pompeo, 2009) Ryanair’s strength not only also lies in its ability to negotiate cost reductions with airports and staff but also with its strong balance sheet as it has EUR2.5 billion in cash (Grassley, 2009). Weaknesses The airline’s company weakness lies in its addiction to growth. Ryanair’s appeal is its cheap fares but to do so, it must fly more and more sectors to gain more sources of revenue and opportunities for cost reduction. Aside from the savings realized from the slump in aviation fuel prices and the acceptance of pay freezes of company staff, Ryanair currently enjoy from the competition among several large and small airports which had led to lower airport services offers and more efficient facilities (Datamonitor, 2009b). Under these conditions, Ryanair can continue to expand and sustain its cheap fares, more passenger business model. As coverage expands, however, so does the number of maintenance crew, cabin and office staff and airplanes. Associated with this is the greater amount of money needed for maintenance, route charges and fuel. While significant savings have been realized for fuel consumption other cost lines are on the rise as shown in Figure 2: Figure 2: Cost Proportions for 2009-2010 (CAPA, 2010b) From the figure above, one can see that even that most of the cost items such as maintenance, materials and repairs are on the rise. Flying more lines would further increase the value of these cost items. The situation becomes problematic especially when fuel and oil prices shoots up which is bound to happen in the later stages of economic recovery. In this case, the cost reduction in marketing will no longer suffice for the continued provision of cheap fares. Adoption of cost reduction strategies by competitors is also making it hard for Ryanair to maintain its advantage. The continued growth in sectors as a means of maintaining sustainability is also open to question as the recession is still limiting the amount spent by passengers in ancillary services. Purchase of value-added services and the amount of excess luggage are all going down as passengers try to stretch their budget for other necessities. For example, the 15% increase in number of passengers in 1Q of 2010 generated only a 7.5% increase in ancillary revenue. Hence, revenues are not increasing linearly with the increase in number of passengers. Compounding this problem is the fact that Ryanair is still implementing significant reduction in travel fares and price promotions. To put it simply, there is looming possibility that cost reduction opportunities will not be enough to offset expansion-related costs making it necessary to increase fares in the future (Ryanair Online 2010b). Opportunities The continuing price sensitivity of travellers in lieu of the economic slump serves well Ryanair’s business model. As Ryanair air fares are considerably cheaper than other airlines, more and more passengers are switching to the carrier which means that the economic slump is an opportunity for the company. As a result of the cost reductions mentioned earlier, the carrier can sustain a 15-20% further decrease in airfares for 2010 bringing its average fare to only around EUR32 per passenger. Ryanair expects that other carriers will not be able to sustainably match their prices and the company will emerge victorious in what they referred to as the ‘bloodbath’. With the billions of cash available, Ryanair can sustain the fare reductions and maintain profit for at least 12 months. The EUR300 million profits after tax ending 31 March 2010 indicated that there is a big opportunity in charging the lowest fares in an economic slump (Ryanair Online, 2010b) Another opportunity for Ryanair is the competition between Airbus and Boeing that would inevitably lead to a decrease in aircraft prices. Ryanair originally negotiated with Boeing for 200-300 aircraft set for delivery from 2013-2016. However, Ryanair chose to stop negotiations because the Boeing was holding on to its prices. There is the opportunity, as Ryanair execs have pointed out, to negotiate cheaper aircraft deals with Airbus for its 200-300 aircraft expansion program. Boeing, faced with a collapsing order backlog and cancellations of orders, is expected to succumb sooner or later to Ryanair’s demands. This competition could further drive down aircraft prices. If Boeing decides to give better prices, Ryanair is also set to benefit from the weakening of the US dollar as the payments made will be in US dollars (CAPA 2010b). Threats Ryanair has acquired a 29.8% stake in Aer Lingus, a fiercely discounting competitor. With Ryanair’s interference, however, the company is now effectively leaderless and is set to succumb in the coming 2010-2011 months. The price for this, however, was the EUR222.5 million accounting write down of its stake leading Ryanair to post a net loss of EUR169.2 million for the 12 months ending in 31-Mar-2009. The company is again set to acquire stakes in another fierce competitor, the German carrier Lufthansa, making the possibility of another write-off looming in the horizon. The problem is that Lufthansa is not willing to succumb to Ryanair’s empire building and is working on effectively integrating Austrian Airlines, Brussels Airlines and BMI under its wings. When this happens, Lufthansa will pose a major threat to Ryanair’s market share dominance (Datamonitor 2009b). Fuel price surges and slump also present a threat to Ryanair as this was the other reason why the company posted a EUR169.2 million loss in 2009. Ryanair hedges its fuel and oil consumption but it overestimated the fuel and oil prices in 2009 leading to a 59% surge in fuel costs amounting to EUR1.3 billion. The company is still hedging its fuel and oil costs but has taken extra measures to correctly assess the market. Ryanair hedge 90% of its fuel requirement at USD62 per barrel. If their estimates are right, they are expecting a EUR450 million savings as compared to last year (CAPA 2010a). This figure alone shows that the current earnings guidance of the company appear to be conservative thus presenting a threat to its financial health. Despite of the hedging instrument, Ryanair faces a big issue regarding fuel costs. Ryanair faces a medium to long-term margin squeeze as fuel costs rise on a scale it cannot cover with ancillary revenues. There is also the problem once Boeing decides not to give in. One of Boeing’s previous sources of cost reductions was its single type of fleet, the B737-800. The company saved money because it needed only to train and maintain crews for one type of aircraft (Grassley, 2009). Ryanair soon needed bigger Boeings to accommodate passenger volume to keep its service quality in line. This meant more training but was still less expensive because of the same type of company. If Ryanair decides to have a mixed fleet when it acquires the services of Airbus, then there is the added cost of training and maintaining another set of crew. PEST Analysis of Ryanair Political Despite calls by Ryanair for a decrease airport usage fees and air travel taxes, the UK and Ireland government leaders remain silent on the issue. Nonetheless, government leaders of other countries such as Belgium, Holland, Italy and Spain have reduced airport costs, in some cases to zero, in the effort of stimulating inward tourism and protecting jobs. The expansion of the European Union is also providing the necessary conditions for new international and domestic markets. Membership to the European Union requires a country to deregulate its air travel industry and enable foreign companies to offer domestic flights (Datamonitor, 2009a) The political scenery, however, is not all positive. As the BA crew strike would show, trade union action is on the rise again and government leaders seem incapable of protecting the ailing air travel industry from debilitating actions such as strikes and walk-outs. Ryanair also have the habit irritating politicians in some countries. In Italy, Ryanair made an internet ad showing a prominent Italian politician in bad light. Italian authorities were furious with Altero Matteoli, the country’s then transport minister, suggesting punitive action against eh company. In France, Ryanair’s call for the government to reduce airport fees and taxes vexed officials as the French government had already given EUR 700,000 to the company for its web communication campaign (Bengali & Pompeo, 2009). Economic Fuel cost represents 1/3 of the total operating expense of Ryanair. The company tries to minimize this risk by hedging 90% of its fuel and oil consumption. However, as its 2009 hedge performance has shown, the market can be extremely volatile and result to a loss for the company. For example, the company hedged its fuel for Q1 of 2009 to $1,170 per metric ton whereas the actual price for that period was only $613. This means the company paid 47% more than what it should have. The depreciation of the US dollar also presents a challenge to Ryanair as most of its financial instruments use dollar values (CAPA 2010b). Certain rulings of the EU Commission have economic implications for Ryanair. This includes the ruling that subsidies to airports are illegal. Air carriers faced also greater fines for overbooking as well as higher compensation for flight cancellations. Passengers are now also entitled to reimbursements if delays were due to poor planning and performance of the airline company (Ryanair Online, 2010c). Sociocultural Demand for cheaper air fare is expected to increase as economic recovery is still less than projected. Despite an increase in market share and a continuing growth in traffic, demand for air travel, both domestic and business, is still very low particularly in the United Kingdom and Ireland due to very low consumer confidence and the credit crunch. Nonetheless, Ryanair’s model of providing low cost fares have been found to entice people to travel by air rather than using cars and high speed trains (Butcher, 2004). Environmental consciousness is also on the rise. The airline industry is already under scrutiny by environmentalist groups for its contribution to carbon emissions. Ryanair has already received flak from people such as UK climate change minister Ian Pearson who called the company as ‘the irresponsible face of capitalism’ for its contribution to the aviation industry’s contribution to global warming. The company is already vilified in blogging sites as facilitator of wasteful holidays for people who go abroad to have pointless fun and frolic in environmentally unspoiled areas (CAPA 2010b). Technological Wireless technology is on the rise which means that people are becoming increasingly capable of accessing the internet via their mobiles and laptops. This means increased connectivity and more use of the Internet (Datamonitor 2009a). Such development works for Ryanair as it seeks to eliminate check-in desks in airport and make full use of web-based facilities for booking and checking in. Porter’s Five Forces Degree of Rivalry The closest rival of the Ryanair is EasyJet and Aer Lingus. However, as previously mentioned, Ryanair now owns 29.8% of Aer Lingus but it still continue to operate under its own business model. Competition is fierce as Easyjet tries to implement cost reductions to reduce its air fares. Nonetheless, Easyjet and other air travel providers have fares that are a far cry from Ryanair as shown in Figure 3: Figure 3: Fare Comparisons for 2010 (Ryanair Online, 2010b) Ryanair has been able to cut fares by reducing costs and consequently gaining market share. The company also boasts of being the air travel provider with the least missed baggage. Despite of these, however, EasyJet’s number of passengers amounted to 45.4 million in the 12 months to 31 Oct 2009 as compared to 64.1 million by Ryanair. This means that despite the huge differences (94%) in air fares, Ryanair was only ahead by 30%. EasyJet also had average load factor of 85.7% compared to Ryanair’s 82% in that year. Nonetheless, EasyJet overtaking Ryanair is seen by analysts to be highly unlikely. Threat of Substitute Travel by air is still the fastest way to travel from point to point but people are rediscovering the financial benefits of travel by buses, high speed trains and ships. These methods of transportation serve as a substitute for air transportation especially for domestic travel. Recent studies have shown that there was a significant increase in bus and train passenger volume for inter-country travel in Continental Europe and between Britain and France (Datamonitor, 2009a). Nonetheless, the combination of faster travel, cheap air fares and convenience is minimizing the threats presented by the substitutes. Buyer Power There is one truth behind the aggressive drive to decrease fares and that is to attract the most customers. The economic crisis had already led to a decrease in air passenger volume such that airlines companies scramble to fill their scheduled planes. Hence, customers have acquired a significant bargaining power. This, however, is countered by the fact that many airline companies are collapsing or consolidating thereby giving the remaining companies such as Ryanair more leverage and more opportunities for rationalisation (Ryanair Online, 2010b). The list of airlines providers that closed down or consolidated is shown in Figure 4: Figure 4: List of Airline Companies Consolidation and Closure (Ryanair Online, 2010b) Supplier Power Essentially, the only major supplier to pose a threat on Ryanair is its aircraft supplier Boeing. Ryanair needs more Boeing planes to continue to grow but the company is unwilling to yield to Ryanair pressures. Ryanair executive Michael O’Leary argues that Boeing enjoys from discounts from its suppliers of parts and services but is unwilling to lower their profit to accommodate Ryanair cost reduction goals (CAPA, 2010b). Negotiations were unilaterally stopped by Ryanair and talks with Airbus have started. Aside from the aircraft supplier, there is not much trouble with other services primarily because Ryanair presents a way out of bankruptcy for subcontractors. Barriers to Entry Entering into the lowest fare game with Ryanair is seen as difficult and unsustainable. Even EasyJet sees Ryanair’s ‘market busting’ strategies as likely to hunt O’Leary in the future as Ryanair is no longer able to maintain fare levels. EasyJet drew a comparison between Southwest (US) and Ryanair wherein the former also went into a discounting and growth spree only to find that the supply of sector is finite (CAPA, 2010b). However, why can’t airlines companies match the lowest fare provided by Ryanair? The answer is that the entry risk involved is very high and getting involved presents significant organizational change that could not be obtained overnight. Conclusion Ryanair’s lowest fare model hinges on cost reduction measures. Aside from the reduction in fuel costs, Ryanair was only able to reduce cost by web check-in innovations and pay freezes along with lower salaries for new hires. The economic slump is also giving suitable options for Ryanair as airport costs have gone down and travellers choosing the company to comply with their tightened budgets. However, the company has reduced fares too much that it is offsetting profit margins. Faced with increasing costs, the airline might find it someday necessary to increase fares. Nevertheless, even if it does, Europe would have no choice because Ryanair has driven many air travel providers out of business. Reference: Binggeli, U & Pompeo (2009). ‘Hyped Hopes for Europe’s Low-Cost Ryanair. The McKinsey Quarterly, no.4. Butcher, P (2004). ‘Cost Discipline Will Drive Long Term Success’, Morgan Stanley Equity Research, no. 15. CAPA (2010a) Ryanair and easyJet continue strong growth, British Airways’ struggles continue in Oct-2009. Retrieved May 2,2010 http://www.centreforaviation.com/news/2009/11/10/ryanair-and-easyjet-continue-strong-growth-british-airways-struggles-continue-in-oct-2009/page1 CAPA (2010b) Ryanair SWOT Analysis: Addicted to growth, a great model for bad times http://www.centreforaviation.com/news/2009/08/06/is-ryanair-growing-too-fast/page1 Datamonitor (2009a). Airlines in Europe: 2009. Datamonitor Industry Profile Ref Code 0201-0756. Datamonitor (2009b). Ryanair Holdings Plc. Datamonitor Company Profile: Reference Code 7305. Grassley, T (2009),‘The Ryanair Success Story. Price as a Brand. Retrieved May 2, 2010 from http://www.ericsson.com/telecomreport/article.asp?aid=10&tid=85&ma=1&msa=3>. Ryanair Online (2010a). History of Ryanair 2010. Retrieved May 2, 2010 from http://www.ryanair.com/site/EN/about.php?page=About&sec=story>. Ryanair Online (2010b) Quarterly Report 2010. Retrieved May 2, 2010 from http://www.ryanair.com/site/EN/about.php?page=Invest&sec=reports>. Ryanair Online (2010c). Annual Report 2009. Retrieved May 2, 2010 from www.ryanair.com Read More